Record low rental yields to hit RMBS sector

With rental yields on residential properties in Sydney and Melbourne at record lows, residential mortgage-backed securities (RMBS) issued in 2016 and 2017 could be in for a rough ride, says Moody's Investors Service.

A new report into the Australia RMBS sector by Moody's Investors Service said record low rental yields will make it difficult for investors to service their loans over the next two years.

Rental yields in Sydney and Melbourne are at their lowest levels in 10 years, while the cost of servicing housing investments in Australia's two largest cities relative to household income has climbed to a record high.

“Low rental yields combined with deteriorating affordability increase the risks and default probability for Australian residential property investors and therefore for Australian RMBS backed by loans on residential investment properties,” Moody's said.

The deteriorating affordability of servicing investment properties also makes investors more vulnerable to risks such as loss of income, interest rate increases, vacancies or rent reductions, and therefore increases their probability of default, the report said.

As a result, property investors will become much more dependent on house price appreciation to realise a profit.

“Should capital gains not materialise, these investors will suffer significant losses and their behaviour towards their investment loan servicing obligations may change,” the report predicted.

The flow-on effect of poorly performing property investment loans will be most keenly felt in RMBS issued in 2016 and 2017.

“Investment loans originated in 2014 and 2015 are most at risk of deteriorating. Australian RMBS portfolios are typically made up of loans that are one to two years seasoned and so the bulk of the 2014 and 2015 investor loans to be securitised will be found in 2016 and 2017 vintage RMBS,” the report said.

“The higher risk of 2014 and 2015 investor loans is particularity significant, given the high-growth in investor lending during this period.

“A total of $154.5 billion worth of residential property investment loans were advanced between January 2014 and December 2015, a 50 per cent increase over the prior two-year period.

“Investor lending constituted 43 per cent of total housing lending between January 2014 and end-2015, compared with 39 per cent over the prior two years.

“We expect this growth in investor loans to be reflected in RMBS issued in 2016 and 2017 as historically RMBS portfolios have closely resembled the broader mortgage market,” said Moody's.